Using Croatia as an analogy for Crimea

Yesterday, I laid out what the annexation of Texas in 1845 might say about Vladimir Putin’s motives in Crimea. My conclusion, however, was that, whatever Putin’s motives, the Texas annexation tells us military confrontation was not to be discounted as an outcome of the Crimean crisis. Looking a little closer into the past, let’s look at what the disintegration of Yugoslavia can tell us. I believe the chief lesson will be that recognition of seceding republics moves the world from branches in a decision tree with limited nodes to branches with many more decision nodes, creating many opportunities for policy error.

Basically, in the political economy, decision makers want to control events such that there exists a narrow set of probable outcomes with few outliers and few negative outcomes from the decision-makers point of view. If you think of economic policy-making as a chess game, remember that the reason chess openings have sprung up and become so well-studied is that using a standard opening limits probable outcomes. Sticking to a well-beaten and well-studied path is a good way to control events. But toward the middle game in Chess, the possible number of moves mushroom, and there comes a point where the situation is unique and unstudied. That’s when errors creep in and where chess games are won or lost. Analogously, we are in the middle game of the post-Soviet breakup, and as such, the move by the Us and EU to recognize the new Ukrainian government represented a move which has led to a messy sequence of events. We were at a node with a more stable set of outcomes when Yanukovych agreed to call elections in the spring. But when the Ukrainian parliament deposed him and the US and the EU recognized the new government, it forced Russia’s hand and set up a now escalating and unpredictable scenario.

I want to focus on the Crimean decision to try to secede and the Russian decision to support this secession because it has recent precedents in the former Yugoslavia. In December 1990, a referendum was held in the Yugoslav republic of Slovenia. The question: “Should the Republic of Slovenia become an independent and sovereign state?” Just as with Crimea, more than 90% of those who voted said yes. And 88.5% of all possible voters said yes as turnout was high. In May 1991, it was Croatia’s turn. With 83% turnout, voters voted to 93% in favor of independence from Yugoslavia.

On 25 June 1991, both Slovenia and Croatia declared independence and both recognized each other as independent states. War began in Croatia between pro-independence forces and pro-Yugoslav local Serbian forces. Germany advocated a quick recognition of the breakaway republics. But France, the UK, and the Netherlands wanted to take a wait and see approach as did the US under George H. W. Bush. France and the UK tried to prevent recognition via a UN resolution against unilateral actions. But Germany was set to defy the UN. And so, on 17 December, the EEC formally agreed to grant Croatia diplomatic recognition the next month.

Here’s how the New York Times reported the situation on 16 December 1991:

The Security Council backed away from a confrontation with Germany over Yugoslavia today after Germany’s European allies on the Council decided that they did not want a major clash with Bonn.

The incident underscored Germany’s growing political power in the 12-nation European Community, diplomats said. Some added that it marked the single most visible demonstration of that power since reunification of the two Germanys more than a year ago.

Moreover, in its unusual assertiveness in moving ahead with a plan to extend diplomatic recognition to the breakaway Yugoslav republics of Croatia and Slovenia, Germany has stirred troubling historical associations, even though on other issues it has emerged as a proponent of greater European unanimity. Nazi Germany dominated the two Yugoslav regions during World War II, absorbing Slovenia into the Third Reich and creating a puppet regime in Croatia.

[…]

The Bush Administration acquiesced in the pullback by France and Britain today. But Washington, which has recognized the independence of the Baltic republics and moved away from Moscow as the Soviet Union dissolves, nevertheless made clear over the weekend in a message to Foreign Minister Genscher that it remained strongly opposed to selective recognition of the two republics. “They know our position well,” was all the United States representative, Thomas R. Pickering, would say at the end of today’s meeting. ‘Fraught with Danger’

In Washington, President Bush said said he disagreed with the German decision because the Yugoslav situation was “fraught with danger.”

“The United States position has been that we want to see a peaceful evolution. We’ve been strongly supportive of the E.C.,” Bush said of the opposition to recognition by the European Community. “We’ve been strongly supportive of what the U.N. has tried to do. Their advice has been to go slow on recognition, and I think they’re right.”

If Germany does recognize Croatia and Slovenia, a move that Bonn has said it will make by Christmas, at least three other community members, Italy, Belgium and Denmark, are likely to follow, as is Austria, which is seeking membership.

Later, Bosnia and Kosovo held their own referenda and Yugoslavia was done as an entity.

So what’s the lesson here?

For me, it is what I said earlier: you want to limit bad outcomes. The EU/US recognition of the Ukrainian government and Russia’s recognition of Crimean independence are two policy decision that open Russia, Ukraine and the globe up to a set of unpredictable outcomes, many of which are bad, some of which are very bad. The immediate fear has to be civil unrest and ethnic cleansing. An article in Beyond Brics blog at the FT says that the pro-Ukrainians in Crimea now feel abandoned and isolated. The potential for unrest is high. Will Russia protect those people? Will retaliation occur within the rest of Ukraine against pro-Russian civilians? And what will Russia’s response be? What will Ukraine’s response be? In Yugoslavia, we had ethnic cleansing, crimes against humanity and all out war. We cannot discount this as an outcome.

And clearly, on the economic front, with sanctions already imposed, further actions by Russia will mean worse sanctions and a tit for tat response.

The developments followed a fiery speech by Mr. Putin that leaned heavily on Russia’s past glories, but also offered reassurances that the Kremlin has no further designs on Ukrainian territory.

Only two weeks ago, however, Mr. Putin said Moscow had no plans to annex Crimea. On Tuesday, he moved to do just that.

Even if he stops at Crimea, Mr. Putin’s annexation of the Black Sea peninsula would be the first such move in Europe since the end of World War II—upending long-held assumptions about security on the continent and potentially condemning Russia to a period of prolonged isolation.

[…]

Mr. Putin reached back centuries into czarist history in his speech and relied heavily on widely felt nostalgia for the superpower status of the Soviet Union. He said Russia will stand up for the millions of ethnic Russians and Russian-speakers in what he called “historic Russian lands” now outside its borders.

Citing Crimea’s long history as part of Russia, he said: “This strategic territory should be under a strong, sovereign state and that in fact can only be Russia.” Leaving Crimea in Ukrainian hands, he warned, could lead Sevastopol, home to Russia’s Black Sea Fleet, to become a harbor for the North Atlantic Treaty Organization.

Mr. Putin signaled that Moscow isn’t planning to send its troops further into Ukraine, despite his reference to the area as “the historical south of Russia.” But he reiterated his harsh denunciations of the new, Western-backed government in Kiev as illegitimate and dominated by “neo-Nazis and anti-Semites.”

Appealing to the people of Ukraine, Mr. Putin said, “Don’t believe those who are using Russia to scare you, who say that other regions will follow Crimea. We don’t want a partition of Ukraine. We don’t need this.”

“Millions of Russian people, Russian-speakers, now live and will continue to live in Ukraine, and Russia will always defend their interests through political, diplomatic and legal means,” he said.

The annexation of Crimea is starting to feel a bit like the Anschluss of Austria by Hitler. I hesitate to make the comparison but the rhetoric from Putin’s speech sounds like the Lebensraum stuff we heard then.

I would like to go on here and tie these thoughts together but I have run out of time. But I think the Ukrainian events will have very big geopolitical and economic impacts and that markets are simply being too complacent. We will see.

Edward Harrison is the founder of Credit Writedowns and a former career diplomat, investment banker and technology executive with over twenty five years of business experience. He has also been a regular economic and financial commentator in print and on television for the past decade. He speaks six languages and reads another five, skills he uses to provide a more global perspective. Edward holds an MBA in Finance from Columbia University and a BA in Economics from Dartmouth College.